Rahul Gandhi Needs a Lesson in Inflation - Vivek Kaul's Diary
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Rahul Gandhi Needs a Lesson in Inflation

Mar 21, 2016

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Rahul Gandhi, in his new avatar, as the angry young man (yes at 45 he is still young), has a thing or two to say on most issues. Let's take the latest decision of the Narendra Modi government to cut the interest rates on the public provident fund (PPF) and the small savings schemes like Kisan Vikas Patra (KVP) and National Savings Certificate(NSC). Interest rate cuts ranging from 40 basis points to 130 basis points have been carried out. One basis point is one hundredth of a percentage.

Earlier the interest rates ranged from 8.4% to 9.3%. Now they are in the range of 7.1% to 8.6%. These interest rates come into effect from April 1, 2016.

Rahul Gandhi's office tweeted to say that "slashing interest rates on small savings - on PPF and KVPs, is yet another assault by the Modi Govt on hard working middle class people." He further said that "this Govt has failed farmers, failed the poor & now it's failing the middle class. Modiji ppl are seeing through your event management politics."

While the Modi government has taken the middle class for granted on other issues, like not passing on the benefits of the fall in oil prices in the form of lower petrol and diesel prices, or trying to tax the Employees' Provident Fund corpus of private sector employees, the same cannot be said in this case. Before I get into explaining this, we first need to understand the meaning of inflation and how it impacts investment returns.

What is inflation? Inflation is essentially the rate of price increase. If the price of a product in March 2015 is Rs 100 per unit and it jumps to Rs 110 per unit by March 2016, the rate of inflation is said to be 10%. So far so good.

What does it mean when people say inflation is falling? It doesn't mean that the prices are falling. It means that the rate of increase in price rise is falling. Allow me to explain. Let's extend the example considered earlier.


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The price of a product in March 2016 is at Rs 110 per unit. Let's say by March 2017, the price of the product has increased to Rs 115.5 per unit. This means that the price of the product has risen by Rs 5.5 or 5%. The inflation is 5%. Hence, the rate of price rise has fallen and the price of the product has gone up.

A fall in the price of the product would mean the price of the product going below Rs 110 per unit, by March 2017, which is a totally different thing.

This is a very important point which many people don't understand and hence, it is worth repeating. A fall in the rate of inflation does not mean lower prices, it just means that the rate of price rise is falling or has slowed down.

Now let's get back to Rahul Gandhi and the Modi government's decision to cut interest rates on PPF and other small savings schemes.

The rate of interest on offer from April 1 onwards, ranges from 7.1% (on the one-year post office deposit) to 8.6% (on the Senior Citizens Savings Scheme and the Sukanya Samriddhi Account Scheme). What is the prevailing rate of inflation? Inflation as measured by the consumer price index in February 2016 had stood at 5.18%.

What does this tell us? It tells us that the rate of interest on offer on PPF as well as other small savings scheme is higher than the prevailing rate of inflation. This means that the money invested will "actually" grow and not lose its purchasing power. The real rate of return on these schemes is in positive territory. The same cannot be said for the period when Rahul Gandhi's Congress Party was in power.

Inflation as measured by the consumer price index was 10% or higher between 2008 and 2013. In fact, the inflation during the period stood at an average of 10.1% per year. What was the interest that the Congress led UPA government was paying on PPF and other small savings schemes?

The rate of interest varied from anywhere between 8-9%. This, when the prevailing rate of interest was greater than 10%. Hence, the money invested in these schemes was actually losing purchasing power.

This is not the case now. Investors are actually earning a "real" return on their investment. Some people told me on the social media that even with lower inflation, prices are not really falling. As I explained earlier, lower inflation does not mean falling prices. It just means that the rate of price increase has slowed down.

Also, it needs to be mentioned here that investments made into PPF and other schemes like Senior Citizens Savings Scheme, National Savings Certificate and Sukanya Samriddhi Account Scheme, enjoy a tax deduction under Section 80C. Hence, the effective rate of return on these schemes is higher than the interest that they pay.

I guess these are points that Rahul Gandhi needs to understand. Editors of media houses who have run headlines saying how the middle class will be hurt because of the cut in interest rates, also need to understand this. While "middle class hurt" makes for a sexy headline, that is really not the case.

Also, it is worth mentioning here that the Modi government is trying to introduce a certain method in the calculation of the interest to be paid on these schemes. The interest will now be linked to the rate of return on government securities and will be calculated every three months.

Indeed, this is a good move and brings a certain transparency to the entire issue. Further, people up until now have been used to interest rates on PPF and small savings schemes remaining unchanged for long periods of time. But now with a quarterly reset in these interest rates coming in, they need to get used to the idea of these interest rates changing on a regular basis.

This is something that needs a change in mental makeup and will happen if the government persists with this. Also, it is important in the days to come the government ensures that the rate of interest being paid on PPF and small savings schemes is higher than the rate of inflation. That to me is the most important thing than the current rate cut.

Vivek Kaul is the Editor of the Diary and The Vivek Kaul Letter. Vivek is a writer who has worked at senior positions with the Daily News and Analysis (DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. The latest book in the trilogy Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System was published in March 2015. The books were bestsellers on Amazon. His writing has also appeared in The Times of India, The Hindu, The Hindu Business Line, Business World, Business Today, India Today, Business Standard, Forbes India, Deccan Chronicle, The Asian Age, Mutual Fund Insight, Wealth Insight, Swarajya, Bangalore Mirror among others.

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31 Responses to "Rahul Gandhi Needs a Lesson in Inflation"

Rustam Shroff

Mar 30, 2016

Rahul Gandhi is inflated enough. He needs to deflate.

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Ulhas

Mar 28, 2016

Generally such decisions are not popular. The party is very likely to face criticism from masses. A lot of comic politicians will use such decisions to their political advantage. It is obvious that BJP as party is fully aware of such implications which are politically not favorable to them. Despite this if they have taken this decision then we must look at it in more practical manner. Why would any party take such decision that is wrong both, economically & politically?

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krishnan

Mar 27, 2016

Yes.Though your para "The rate of interest varied from anywhere between 8-9%. This, when the prevailing rate of interest was greater than 10%. Hence, the money invested in these schemes was actually losing purchasing power" is not clear to me, I can guess what you meant.You proabably meant inflation was higher than rate of interest offered.
Now the rate of inflation calculation itself is not very transparent or correct.You need different baskets of goods for different categories of people.The poor and the senior citizens, the middle class need different goods .The richer and upper middle class ones can always pass on the price increase through increased selling prices or increased salaries( as they mostly comprise of businessmen and organized salaried class}.
it is difficult to believe what the govt says as this govt also tweaks figures to suit it politically(example GDP figures)

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JJ Puthettu

Mar 24, 2016

Thanks Mr. Kaul. This is a very good article and reveals that even at price increase the rate of inflation is actually low. One more thing to be noted here is the spending ability and also disposable income. If public at large puts their money in saving schemes due to attractive interest or whatsoever the floating money in the market will be less which will cause prices to come down.

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krish

Mar 24, 2016

subramanian
the author is probably a stooge of the govt forget economics. the cpi or inflation as calculatd by govt is flawed. See what happened to rate of growth which the govt modified to suit their requirements and show a greater number. Similarly they are using statistics (the three lies, lies, greater lies and statistics) to prove their point. if we compare ourselves to western countries where there is social security which is absent in our country and the senior citizens are left to fend for themselves, and on top of it the govt takes away what ever income they earn on safe avenues. If the govt wants to push these people to invest in risky stock markets to favour the whosoever it wishes to please, it indeed is a sad day for people over 55 especially who do not have any pension from the govt coffers. The ministers who ate out of the hands of people like mallya and other industrialists do not care as their social security is very well taken care of by whatever means . Let us not hide behind statistics and inflation and all bullshit. the common man and senior citizens are ultimately left to suffer. Jai ho bharat bharat mata ki jai!!!

Like (1)

Suresh Kabra

Mar 23, 2016

I am a retired army officer. I am equally hurt like all others, by interest rate cut as most of my savings are in PPF, NSCs etc. Every one wants max returns from their investments and pay min tax. If so, how will the country run? Hence I see your logic. I also hope that incentives & exemptions given to various industries are also done away with soon, as there are thousands of profit making companies which don't pay any tax taking advantage of such schemes. If that happens I will certainly welcome this move of the govt. As far as Rahul Gandhi is concerned, he is only good in adding fuel to fire without proposing any meaningful solution. And he will keep doing so till National Herald case is decided in their favour.

Like (1)

S.D.Israni

Mar 23, 2016

Let us keep Rahul Gandhi out of this; in any case he is of no use. It is very well to quote statistics and take support of CPI to talk of lower inflation; figures can be highly misleading unless a holistic view is taken. Here I am concerned with the plight of lakhs of senior citizens who are totally dependent for their earnings on such instruments.

As you are aware there is no social security in our country and the cost of medicines and hospitalisation is increasing by the day and senior citizens are the prime victims. As senior citizens are neither money bags nor they are a voting block no party is interested in them. Moreover, majority of them dont have any income source barring interest income. Please think of them.

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Gautam Mukherjee

Mar 23, 2016

Leaving aside political motive which is the sole factor that drives RaGa rather than real concern of people of the country, this present move of the government in lowering interest rate will always evoke mixed reaction as the impact will differ based on the current profile of the person. For retired and those folks who were savings more rather than consuming the impact will be negative as the risk free return will reduce. For those folks who were consumers more than savers, this is a good news as the decks are almost ready for RBI governor to reduce the rates in a big way and the banks also now does not have any option now other than to pass on the lower rates as their only alibi of not getting enough deposits due to competition from small savings instruments are also gone. I feel the decision is in the correct path as we cannot be myopic and selfish to only think about ourselves as for India to progress and enter the booming phase, the lending rates needs to go down as that will make industrialists to invest further and create more job opportunities.

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C S Radhakrishnan

Mar 23, 2016

The cut in Small savings interest rates will drive new deposits to Public and private sector Banks. Small savings deposits remain a source for States to borrow in proportion to the collections from the State.This is relatively less expensive source for developmental funds. The large Banks won't lend that extra fund recieved by them to the States. In effect, the new measure is intended to buoy up the funds mobilisation of the Banks. Any amount of academic jugglery on terminology is not going to take way the pain this inflicts on the investors. Instead, it will drive the more educated savers away from Government comtrolled Saving instruments.

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sudhir

Mar 22, 2016

Cut in interest rates, it is a blow to senior citizens, FM is interested in hard earned money of Taxpayers and their savings, PPF rates cut is totally against to the million of investors, the very concepts of PPF was to give the employees an assurance and power of confidence to lead a better and happy life during service, and after retirement.. During service PPF money was taking care of their children education, future and marriage.....making the employees relaxed. I do not know why the senior citizens are not voicing and not asking FM to roll back the previous percentage.....We senior Citizens are totally against because of age and health factor we cannot come to road or agitation....1. He wanted to tax the returns on pPF, now they have rolled back their decisions. If one has to go through or make the investigation as to how the PPF money is used by the middle class people and the employees, without having basic knowledge or having done survey on this aspect bringing the ppf is in correct, Then they should not insist to pay minimum 10 percent of salary contribution and let the investor of PPF shift to other depth or balanced funds which gives better returns...I am retired Engineer, PPF has helped me in my children Marriage and I was a relaxed man. This happiness FM has to give the employees when they are in employed and after retirement when they get the PPF proceeds....
Please Don't cut interest is my voice.

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